Best and Worst States to Pay Taxes on Lottery Winnings

The odds against winning the Powerball lottery are long indeed, yet someone will eventually manage to do it. And they'll have to pay taxes on their winnings. The federal government will want a piece of that prize, and the state taxing authority will likely have its hand out for a share as well. But some states are much kinder than others when it comes to taxing lottery winnings.

You're not going to receive that whole amount if you take the money in a lump sum. The full advertised jackpot is the most you can win. It's reserved for those who accept their winnings as annuities, so the money is paid out over a span of years. Either way, a hefty percentage of your lottery winnings may go to taxes.

Federal Taxes on Lottery Winnings

FICA taxes—Social Security and Medicare—are imposed on earned income, so here's the good news: Lottery winnings are exempt from FICA taxes because they're not earned.

But the IRS does require that lottery officials withhold income taxes from your winnings. They must do so if you win $5,000 or more after subtracting the cost of your ticket. The withholding rate is 25%. The IRS treats that 25% the same as it would if your employer withheld taxes from your paychecks. It will send you a refund if you don't end up owing that much when you file your tax return.

The top federal tax rate in tax year 2022 is 37% on incomes over $539,900 for single taxpayers, or $647,850 if you're married and filing a joint return. This means you'll pay 37% income tax on the portion of your winnings that exceeds these amounts, depending on your filing status.

Other Lottery Taxes Vary by State

States with the highest top income tax rates can pose a tough tax burden as well. New York is one example, particularly if you live in New York City, which will also want a cut of your winnings.

New York's top state tax rate is 8.82% as of 2022, but then you'll have to add another 3.867% for the local tax if you live in New York City. That can work out to a hefty nearly 12.7% of your winnings. Your tax bill would come to almost $127,000 if you won $1 million. It would be about $12.7 million if you won $100 million.

The Worst States for Lottery Taxes

New Jersey comes in as the worst state for lottery taxes, with a top tax rate of 10.75% as of the 2021 tax year. Oregon takes second place at 9.90%, followed by Minnesota at 9.85%. The District of Columbia is in fourth place at 8.95%. New York is in fifth place at 8.82%.

Rounding out the list of the 10 states with high tax rates are:

• Vermont: 8.75%
• Iowa: 8.53%
• Arizona: 8.00%
• Wisconsin: 7.65%
• Maine: 7.15%
  

The hit you'll take depends on the exact threshold where these top tax rates kick in and on how much you've won. For example, you'd only have to pay 9.9% in Oregon if you won more than $125,000, and you'd pay this rate only on the portion of your winnings that exceeds this amount. You'd pay 9% if you won $124,999 or less.

And all this assumes that your state participates in a national lottery and that it taxes lottery winnings. For example, Hawaii's top income tax rate is a hefty 11%, but you can't play Powerball there. It's one of six states that don't participate. It's a very long swim to the mainland to purchase a lottery ticket.

The Kindest States for Lottery Taxes

Your best bet for avoiding lottery taxes is to live in a state that doesn't have an income tax at all as of 2022: Florida, South Dakota, Texas, Washington, Tennessee, and Wyoming. Alaska and Nevada don't tax income, either, but they don't participate in national lotteries.

Then there are an additional couple of states that kindly refrain from taxing lottery winnings: California, Utah, South Dakota, Mississippi, Tennessee, Alabama, New Hampshire, and Delaware will generously let you keep your jackpot tax-free. This is particularly convenient in California, where the top tax rate is even worse than what you'd pay in New York City: 13.30% as of 2021.

That leaves these states with the lowest top tax rates as of 2021:

• North Dakota: 2.90%
• Pennsylvania: 3.07%
• Indiana: 3.23%
• Colorado: 4.55%
• Ohio: 4.79%
• Illinois: 4.95%
• Oklahoma: 5.00%
• Kentucky: 5.00%
• Massachusetts: 5.00%
• Missouri: 5.40%

State Lotteries vs. Other Winnings

Keep in mind that these rankings are for national lottery winnings. As a general rule, other types of winnings are considered income, but they're not always subject to the withholding rule. They might not be subject to FICA taxes. But you might still have to pay income tax on the money.

Some Small Tax Perks

You can deduct gambling losses if you itemize, and if you spend more money trying to win than you actually end up winning, but only up to the amount of your winnings. In other words, you wouldn't have to pay a tax on your prize money, but you couldn't use the balance of your losses to offset your other income.

Another deduction you can take on your federal return to try to nip away at your tax bill is for the income taxes you must pay to your state on your winnings. Unfortunately, the Tax Cuts and Jobs Act limits this itemized deduction to $10,000 for tax years 2018 through 2025, and to just $5,000 if you're married and filing a separate return. This is just a drop in the bucket if your winnings are a lot.

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